The Daily Reckoning - Clamor For A Cure (Sean Corrigan)

verfasst von Firmian, 31.10.2003, 11:53

-->Clamor For A Cure

The Daily Reckoning

Ouzilly, France

Tuesday, 28 October 2003

---------------------

*** What year is this? Is it 1999 all over again? Waiting
for things to happen...

*** Gold sold off... houses bought... Countrywide Credit...

*** The martyrdom of the American consumer... and more!

---------------------

We check the calendar. Is it 2003? Or 1999?

We ask because we have that same feeling of waiting for
something to happen that we had 4 years ago. Then, as now,
it was fairly clear that the trends currently in motion
couldn't last forever. But then, as now, they seemed to
have been going on for so long that they had begun to look
eternal.

Still, by mid-'99 most market indexes were topping
out... and the price of gold bottomed at $292 per ounce.
Since then, the price of gold has risen nearly a hundred
dollars... while stocks fell, then bounced back
approximately half way to where they had been.

The bigger trend, however, continued - American consumers
kept going deeper and deeper into debt for the benefit of
American policy makers and foreign industries. For what
does it really accomplish when a man borrows against his
house to buy a home entertainment system? The GDP goes up.
Greenspan is relieved; maybe he will be able to hold off
the day of reckoning until after he is out of office. Bush
is hopeful; maybe he will be re-elected.

But it is the foreigners who actually benefit. The American
borrows so that he may buy foreign-made goods; fifty cents
of every dollar spent on manufactured items ends up
overseas. Factories in China boom. Workers are hired
overseas. New technologies are introduced in foreign
nations. Pretty soon, the foreigners are no longer
supplying cheap gee-gaws, but precision tools and high-
technology products, rivaling... and surpassing... those of
American manufacturers.

The foreigner is no fool. He then lends his profits back to
Americans... so they can borrow and spend more.

Eventually, of course, the trend will come to an end. The
dollar will fall and the foreigners will take a loss on
their investments. But Americans will take the bigger loss;
Asian companies will turn their backs on Americans and
their dollars... and begin selling their wares to people
with real money. Like the Spanish after the discovery of
New World gold... Americans will fall into poverty, victims
of their own good fortune.

What could have been more agreeable than having a printing
press in your basement... and being able to print up dollar
bills that the rest of the world accepted as though they
were worth something? Who could have imagined that the
Dollar Standard system would be the kiss of death to the
U.S. economy and its martyred consumer?

We think we see the end coming... but what date the calendar
shows when these things come to pass, we don't know.

Over to Eric Fry with the latest market developments...

--------------

Eric Fry in New York...

- The urge to merge swept through Wall Street yesterday, as
a flurry of billion-dollar mergers sparked a brief buying
panic in the morning. But exuberance soon yielded to ennui,
and the major averages finished the day with only slim
gains. The Dow added 26 points to 9,608, while the Nasdaq
climbed nearly 1% to 1,883. The dollar also gained
slightly, while bonds and gold both dipped slightly.

- Bank of America led yesterday's mega-merger parade - the
busiest day for corporate acquisitions in almost four years
- by agreeing to pay $47 billion for FleetBoston. Monday's
other multibillion-dollar deals included Anthem's $16.4
billion bid for WellPoint Health Networks and UnitedHealth
Group's agreement to buy Mid Atlantic Medical Services for
$2.95 billion.

-"The $156 billion of takeovers this month represents a 66
percent jump from September and is the most since July
2001, when acquisitions totaled $200 billion," Bloomberg
News reports. And yesterday was the busiest day for mergers
since January 17, 2000, the first business day after the
epic bull market of the 1990s reached its peak. On January
14th, the DJIA topped out at 11,723.

- Will history repeat itself... or maybe rhyme just a
bit?... Let's take a look at some of the spooky anecdotal
evidence.

- For starters, the FleetBoston takeover is the classic
sort of overpriced, ego-driven, trophy acquisition that
always seems to cap a bull market. As bull markets age,
share prices soar, investors become increasingly exuberant,
and American CEOs redouble their efforts to squander
shareholder cash. This is simply the way the world works.
We may not like it, but it is the natural financial order.

- One thing is certain: frenzied merger activity does not
occur at the BEGINNING of a bull market rally. The
FleetBoston takeover seems like a near-perfect bull-market-
ender. The deal is big - it would create the nation's
second-largest bank, and it would be the largest takeover
in any industry since Pfizer Inc.'s $64 billion purchase of
Pharmacia Corp. in July 2002. It's also very pricey: B of
A's purchase price represents a hefty 42% premium above
Fleet's share price prior to the deal, which is more than
double the average of 16 percent for the 10 biggest bank
deals since 1998, according to Bloomberg data.

-"They are overpaying for Fleet," one portfolio manager
bluntly remarked to Bloomberg News. We suspect the
portfolio manager is correct, even though we possess no
particular insight about bank stocks or mergers. But we can
plainly see that bank and brokerage stocks have been
rallying briskly all year, and have continued sizzling
throughout the summer and fall, despite the fact that
interest rates are rising and mortgage refi activity is
drying up.

- Countrywide Financial shares have more than doubled year-
to-date, and have jumped 35% since interest rates bottomed
on June 13th. Indeed, most major bank stocks have been
advancing, even though rates are rising.

- Last time we checked, rising interest rates were not a
good thing for finance companies. But investors aren't
worrying about such nettlesome details. They aren't
worrying about much of anything, except about being under-
invested.

-"There's never been such a long period of bullish
sentiment readings," says your New York editor's friend,
Jay Shartsis."We are getting accustomed to a fat
contingent of bulls from Investors Intelligence every week.
Last week was the 25th straight report of greater than 50%
bulls from this venerable survey. Well, it turns out that
never in the 40-year history of the survey has there ever
been a string of 25 weeks of 50%-plus bulls.

- The extreme bullish readings are very bearish in
Shartsis' view, and points out that the Investors
Intelligence survey is not the only sentiment survey
producing extreme readings.

-"Barron's sees five bulls for every bear, (which is a new
record)," Shartsis notes."The recent Barron's Big Money
poll reflected five times as many bulls as bears among
their professional managers surveyed. The 64.6% bulls
number broke the old record, according to market-timer
Chris Cadbury."

- Mergers are on the rise and bulls are everywhere.
Hmmmm... we may not yet be at the top of the current bull
market, but we are far, far away from the bottom.

--------------

Bill Bonner back in Ouzilly...

*** Gold fell $1 yesterday... coming to rest at $388, far
above our $370 target price.

*** A record 6.69 million houses were sold in September.
The bubble continues!

*** The American consumer has nailed himself to a cross of
debt, so that other people in other countries should have
life... and have it more abundantly. We wrote that
yesterday, but like it so much, we repeat it. The poor
consumer... Greenspan, Bush, Bernanke and the lot have
pressed down upon his brow a crown of prickly bills that he
will wear for the rest of his life. His martyrdom will take
the form of a lower standard of living... and a work life
that may never end.

"Many people won't retire because they haven't saved
enough," says a Houston Chronicle headline.

How could they save, when they were busy borrowing and
spending to support foreign industries?

According to the Baltimore Sun, 29% of workers have not
even begun to save.

And now comes the sad news from the Dallas Morning News:
"Boomers may not get the inheritances they expect." Why
not? Because the older generation has mortgaged and spent
them on THEIR retirements.

***"You mention CountryWide as a proxy for the U.S.
mortgage market," writes colleague Dan Ferris, editor of
Extreme Value."You're right to do so, as it accounts for
about 13% of it. As CW goes, so goes the rest of the
country's mortgage sellers.

"Insiders dumped $19.3 million of CW in the third quarter,
after dumping $40.9 mil in the second quarter. In early
Sept., CW's COO sold 91,000 shares and a senior managing
director sold 113,000 shares. Sounds like management has
some good inside info, except that it's no secret that CW
is hedging its bets.

"As a hedge against the refi bust, which by the way is here
now, CW has bought a bank, a securities firm and two
insurance companies. It expects big revenue from its loan
portfolio, and it also thinks it's going to sell adjustable
rate mortgages when interest rates rise... to whom, I don't
know. Then again, their customers are probably the same
people who've run consumer debt up over $1.7 trillion - no
kidding.

"And hedge they must. CW's mortgage pipeline fell 30% in
Sept. to $54 billion, after dropping 17% in August. CW
handed out 565 pink slips to unproductive mortgage
production employees in August, and more in Sept., though I
don't have the latter number. This probably isn't perceived
as significant for a company with 35,700 employees.

"The Mortgage Bankers Association recently adjusted its
forecast for mortgage originations downward to $1.5
trillion in 2004, from $1.9 tril. All of that $400 billion
difference is refi that won't be there. Nationwide, 2004
refinancings are now expected to be about $430 bil, versus
the previous estimate of $830 bil.

"I don't know about CountryWide's future, but I wouldn't
bet on it with real money. It's on the ugly side of a refi
boom. All of its numbers look stellar, except for its debt-
to-equity ratio of 5 and its negative $15 billion cash
flow. With that kind of leverage, anybody can make big
returns on equity, so I'm not really impressed. It sells
for 7 times earnings... but its earnings, as you just noted,
are through the roof. Trees don't grow to the sky."

---------------------

The Daily Reckoning PRESENTS: How the melody of commerce
went out of tune... and the surest way to reinstate
financial harmony.


CLAMOR FOR A CURE
by Sean Corrigan

In a truly free market, where business concerns are free to
compete, replace, and improve each other, profits made by
the foresighted and fortunate will, on balance, outweigh
the losses made by the foolish and foredoomed. And so the
seed corn for future progress is sown.

In such a market, the music of commerce would be harmonious
and evenly paced, its dynamics restrained; there would be
no swelling crescendo into a Boom, no cacophonous
accelerando to its climax and no minor key diminuendo
thereafter into a Bust.

But alas, such has not been the melody of Western
economies. Once the government takes over from the free
market as musical director - and certainly after it
appoints the central bank to conduct the orchestra - things
are never quite so euphonious.

Too many brass players are hired, while there are empty
seats left in the woodwind section. The timpani play too
fast, the strings too slowly. The piano fails to arrive in
time for the performance, since the instrument maker has
been too busy churning out penny whistles, and ultimately,
what the band plays, the public no longer wants to hear -
certainly not at the ticket prices being charged.

At last, then, the reaction sets in.

Investment projects are revealed as hopelessly optimistic,
or simply wrongly conceived. Wages turn out to be too high
for the ultimate value workers can generate. Certain vital
inputs become too scarce and hence too costly to use to
complete entrained production processes and to bring goods
profitably to market.

Denied those current or prospective profits, capital
investment dries up, unemployment rises and general
business expenditures are reduced. Sub-marginal and
overstretched businesses are squeezed... and previously
hidden deceits and defalcations, cultivated amid that
erosion of personal morality and professional integrity
which always accompanies the fever of seemingly instant
prosperity of inflation, are finally revealed.

At this point, the clamor goes up for a cure - a cry all
the more plaintive because so many have been rudely
disabused of the mirage to which they have succumbed.

Fearing for their jobs, seeing their pensions and college
funds slashed in value as inflated asset prices come into
closer coincidence with the much lesser real wealth to
which these ultimately lay claim; feeling at first rueful,
then vengeful, that they have been gullible enough to
participate in the madness, people everywhere awaken to the
shocking truth: the Boom has not enriched them, but
impoverished them.

So, having imbibed too much at the previous night's wild
Bacchanalia, which prescription would most swiftly relieve
the distress of our thunderous hangover?

Actually, we need do nothing more than to follow the advice
of the tactful, but mildly skeptical doctor, who tells us,
"Take two aspirin and call me in the morning." We need no
deficit spending, no unfinanced tax cuts, no protectionism,
no lowered interest rates or expanded credit, no vendettas
against short sellers or 'speculators', no extra
unemployment benefits or increased minimum wages. Nothing.
Nil. Nada.

True, if an earthquake in the unsound credit structure
threatens to topple too many of our intrinsically insolvent
banks at once - and so bury more innocents in the rubble
than is necessary - emergency finance might be temporarily
provided to the most urgent supplicants... but only at such
a swinging cost that this particular avenue is unattractive
to all but the truly desperate.

In fact, once this liquidity crisis abates, 'emergency
finance' must categorically not be perpetuated as a support
mechanism for banks and companies among the living
dead... no matter how illustrious their pedigree, or how
many presidents, prime ministers, princes and pontiffs they
have owned in the past.

Rather, we must hold unflinchingly to the practice of
'financial selection.' If the monetary value of our
liabilities has grown disproportionately large in relation
to the income and real assets underpinning them, it is much
better, far more equitable, and vastly less threatening to
liberty to bring the debts down to the assets through
bankruptcy and write-downs... rather than artificially
engineering the upward matching of assets to the debt
through the insidious mechanism of inflation.

Further, if, as might well happen in the throes of the
Boom, a nation has become drastically uncompetitive on the
world stage, a one-off currency devaluation might just be
seen as a more politically certain address than a
protracted domestic deflation. But any resort to the lesser
evil of devaluation should be sternly reinforced with
credit restriction at home. Otherwise, the 'need' for it
will surely recur, to the disruption of world trade and to
the detriment of the international division of labor that
so enriches world commerce.

Above all, recognizing that much capital has been lost and
that our wealth has been greatly diminished, all sectors of
society - householders, corporations and, above all,
governments - should tighten their belts and attempt to
live within their sadly reduced circumstances. Saving - not
newly elevated spending - will be what ultimately rebuilds
peoples' fortunes. The sooner we grasp that there are no
shortcuts by which penitents may recover the grace from
which they have fallen, the more readily the right course
of action will be followed.

After all, if Robinson Crusoe loses the roof off his hut
and sees his maize crop flattened and his goat herds
scattered by a passing hurricane, the last thing he should
do is pour all his remaining food stock into his cooking
pot, use what's left of his thatch and his stockades to set
a fire under it and sit back and smoke a pipe while his
last great feast is simmering.

And yet, this is exactly what the powers-that-be are
recommending to us today - in the vain hope that, once we
Crusoe's have consumed our goods and chattels and have
expressed a wish to have some more, the necessary
replacements will magically reappear.

No, if Crusoe doesn't want to starve, he needs to ration
his residual provisions as closely as possible to see him
through. In the meantime, he must set to work, with
redoubled effort, in order to make repairs and to replenish
what has been lost, paying particular attention to the
timeliest possible replacement of his capital assets.

Make no mistake: what works for Crusoe on his island - and
what doesn't - will also hold true for us out in the big,
scary global economy.


Regards,

Sean Corrigan
for the Daily Reckoning

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• The Daily Reckoning - Clamor For A Cure (Sean Corrigan) - Firmian, 31.10.2003, 11:53